Exploring the G in ESG: The Relationship Between Good Corporate Governance and Stock Performance – Part 2

Year-to-date, Facebook (FB) was down 7.13% as of April 12, 2018, compared to its 53% total return in 2017. What started as a data breach issue has expanded to encompass management structure, procedures, and safeguard concerns—issues that are all related to corporate governance. Market participants have a tendency to only care about corporate governance when things go wrong, despite empirical evidence that companies with strong governance tend to perform better than those with weak governance.

We have been exploring the “G” component of ESG, and many tech companies in general do not score favorably on the governance front. In a previous blog, we provided a breakdown of the various elements or dimensions that are part of the S&P Dow Jones Indices’ governance score. In this follow-up blog, we explore the return information contained in the governance component and how investors can manage risk by avoiding companies with low governance scores.

To test whether ESG scores, G in particular, correspond to future stock performance, we formed hypothetical, annually rebalanced quintile portfolios, and we ranked them in descending order by scores and tracked their forward 12-month performance. The underlying universe was the RobecoSAM coverage universe, which comprises 400 global companies starting from December 2000 and increasing to over 4,000 stocks in 2017. The quintile portfolios were formed on an annual basis as of December 31 of every year, and returns are in USD.

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Along with the advent of the 2015 Paris Climate Agreement has come a growing understanding of the structural changes required across the global economy to shift to low- (or zero-) carbon, sustainable business practices.